Bull, Bear, or Kangaroo?
The swift bounce of the stock market during the second quarter was one of the quickest “recoveries” since 1987’s Black Monday. Once again, the market has provided an excellent example of the importance of staying invested, provided your asset allocation is correct. So, whether or not we have begun a new bull, bear, or what some call a kangaroo market is yet to be determined, and that is principally a result of three factors: 1. the virus, 2. the Federal Reserve, and 3. the recovery.
In the midst of the pandemic, with workers at home, the technology sector has outperformed the broader market, particularly those tech companies perceived as benefiting from our sudden shift in behavior. Commercial real estate, once a reliable source of income, is suddenly causing investor headaches. The Federal Reserve’s balance sheet has expanded to an unprecedented level. At each turn they have signaled they will provide a back stop if needed, supporting investor sentiment.
S&P 500 VS. THE DOW JONES INDUSTRIAL AVERAGE
The Dow and the broader S&P 500 have diverged more than usual this year. The S&P’s 500 companies are more representative of the market than the Dow’s 30 industrial stocks, even though the Dow garners the most headlines. The Dow’s weighting methodology also makes its performance numbers more difficult to interpret. While a larger company represents a larger share of the S&P 500, the Dow is a price-weighted index. For example, if the index only contains two stocks with share prices of $10 (Firm A) and $90 (Firm B) at the start of the quarter, the performance over the quarter will disproportionately reflect the higher price firm. (As you know the price per share of a company is an arbitrary number – they can split or reverse split, halving or doubling their price per share, and altering nothing other than the stock price.) If A returns +50% and B – 50%, then the index will have had a -40% return over the period. The S&P 500 is not subject to this arbitrary performance distortion.
FOCUS ON DIVERSIFICATION
Heraclitus said, “you cannot step into the same river twice”. The details of the investment crisis de jour is likewise always different, yet seemingly similar in foundation, and rarely useful. If you can imagine yourself as an investor in 2019, with the abundance of trade and other uncertainties, a global pandemic wasn’t likely on your radar. It’s with the idea that there will be unpredictable events – ones with low probabilities but large impacts – that we build diversified portfolios. In the midst of this crisis we do not know how it will end, if it will end, and what the lasting repercussions will be. How will consumer behavior be forever altered? Will we want to board cruises, cram into subways, or book a tour with a gaggle of people we do not know? While interesting questions, they are not practical. We cannot focus on the micro and lose sight of the macro. Instead, we focus on what works.
WHAT IT ALL MEANS
We are emotional beings. Impulse and intuition have served us well throughout history, but we were not wired to predict the actions of others who have completely different views of the world and economy. Our personal reality map is formed only from our own experiences and lessons learned.
In hindsight we gain clarity around the true unfolding of events. We excel at rationalizing why we should have predicted what happened, likely an inherent way of dealing with our need to make sense of a complicated world.
As the stock market’s second quarter closed out one of the best on record for the S&P 500, we are reminded of the fact that what’s important is “time in the market, not timing the market”. Anyone with a well-diversified portfolio who remained invested through Black Monday in 1987 (when we saw a 20.4% single day decline but a positive return for the year), and through the financial crisis (and the subsequent 10-year 300%+ return on the S&P 500) would agree.
Our job is to execute an evidence based, time-tested investment philosophy on your behalf, and when necessary, to worry on your behalf. Your job is to keep us up to date on your personal situation and to call us if your situation changes. Please let us know if you have specific questions or concerns.
Contact us at 865-584-1850 or info@proffittgoodson.com
Please see disclosures
